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FirstEnergy (NYSE: FE) is a electric utility holding company. FirstEnergy holds directly or indirectly eight electric utility operating subsidiaries and other energy companies located primarily in Ohio, Pennsylvania, and New Jersey.[1] FirstEnergy generates its revenues from the electric services provided by its subsidiaries. Its operations are divided into the energy delivery services and competitive energy services.[2] The Company is in transitioning all of its holdings to a market-rate price structure, which further exposes its subsidiaries to volatile commodity prices for coal and natural gas.

Business Growth

FirstEnergy earned $784 million in net income on revenues of $13.3 billion in 2010, versus net income of $1 billion on revenues of $12.6 billion in 2009.[3] The key determine for revenue growth is the demand for electric energy and overall energy prices. FirstEnergy has also grown its customer base by 35% through the acquisition of Allegheny Energy.[4]

Trends and Forces

FirstEnergy's new price structure increases its exposure to commodity prices

FirstEnergy plans to move all of its holdings to a market-rate structure, which has the potential of increasing its exposure to volatile commodity prices for power, coal and natural gas.[5] Traditionally, approximately 20% of FirstEnergy's generation business was exposed to market prices.[6] After completing its price structure transition, all of FirstEnergy's generation business will be exposed to power market prices. As a result, the company's profitability depends on the relationship between coal and gas prices as well as the demand for power.[7] Volatile commodity prices have the potential of straining the Company's profits as well as its cash flows.[8]

Deregulation in offers opportunity for higher revenues and increased competition

Like all utility companies, FirstEnergy is subject to regulatory and legislative risks that have the potential of raising costs and capping returns. Traditionally, the price that utility companies could charge consumers for electricity generation has been capped by state regulators.[9] However, many states have started deregulating their energy industries with the intent of lowering prices by letting retail customers "shop" for the company that generates their electricity.[10] New Jersey and Pennsylvania both have market-rate generation prices and Ohio has recently taken legislative steps in the same direction.[11]

In most states, however, utilities rates have actually increased in the short term following the removal of rate caps as companies move to align their prices with their costs. If electric prices in Ohio react as they have in other states, FirstEnergy will be able to charge more for its services in a competitive environment. FirstEnergy's low cost nuclear and coal-powered electrical facilities have the potential of giving the company a competitive advantage and lead to a rise in returns from these facilities. However, the Company has had to readjust its business model from a capped rate price structure to a market-rate price structure. Also as a result of deregulation, FirstEnergy faces increased competition, which has the potential of leading to lower prices.[12]

Competitors

FirstEnergy's distribution services are regulated by state governments and have a service monopoly over their areas.[13] In generation industry, FirstEnergy competes with numerous energy companies operating in the Midwest and East Coast.[14] Many industries have engaged in cost-cutting initiatives in order to combat lower demand and costlier feedstocks. In a manner similar to FirstEnergy, many utility companies have switched to a market-price structure in order to adapt to volatile commodity prices.[15]